Abolishing subsidies will be difficult, as this protest in Lagos against the government's decision to abolish fuel subsidies shows. Photograph: Pius Utomi Ekpei/AFP/Getty Images

In these hard times, it's galling to see governments throwing money away. It's even worse when the money they throw away harms the environment and makes it more difficult for sustainable business to grow.

Yet that is happening all over the world because governments insist on subsidising activities and industries that make climate change worse, result in loss of forests and biodiversity and waste natural resources from water to the fish that live in it.

The figures are huge, if uncertain. Some estimates are as high as $1,000bn a year globally. In 2005, the Organisation for Economic Co-operation and Development (OECD) suggested that its 24 member governments were spending more than $400bn a year subsidising energy, transport, agriculture, fishing and water. The biggest chunk goes to farmers and consumers to keep food costs down. Up to $60bn supports fossil fuels – mainly oil, but also coal and natural gas.

It's not only rich countries that hand out subsidies, although they account for about three quarters of the total. Developing country governments routinely support the price of energy and water and staple foods such as rice and maize.

What's the problem?

For many economists, subsidies and any other government interference in the market are undesirable purely because they distort competition and lead to inefficiencies. So far as sustainability is concerned, that generalised opposition is not the point. The point is that governments espouse a variety of ways to advance sustainability, but at the same time operate spending policies that make it more difficult.

The most obvious consequence of keeping prices down is that consumption and waste go up.

Energy and water are classic examples. Businesses are naturally cost-conscious and aim not to spend money they don't need to. But there are a host of costs for most businesses to worry about, and energy or water are not top of the list in most sectors.

Time and time again, companies report that they saved substantial amounts of energy and water once they started paying attention to these resources. But they would have started earlier and tried harder had the prices been higher.

This effect of using more because the price is lower applies in many ways, some less direct. For example, tax benefits led companies to provide company cars, encouraging excessive mileage.

More complex consequences add to the environmental harm from these government giveaways. Biofuels make a good example. Government money encouraged producers to replace food crops and to destroy forests, instead of using marginal land which makes environmental sense. Agricultural subsidies can encourage excessive use of artificial (energy-intensive) fertilisers and cause long-term damage to the soil.

The money doesn't necessarily have to be supporting a particular activity. Regional subsidies encourage companies to move to more remote, less developed areas. That results in longer distances for people and goods to travel.

More fundamentally, government funds can discourage companies from making investments that would advance sustainability. Energy is a classic example – fossil fuel subsidies in many countries have made it difficult for energy companies to justify investing in wind or solar power because they can't see a reasonable chance of making an acceptable return. Similarly, it's difficult to switch from road to rail freight if government funding means trucking would be cheaper.

Of course, some government support is aimed at environmentally beneficial activities. That includes public transport, which keeps cars off the road and CO2 emissions down. And many countries are encouraging wind, solar and other renewable energy sources. But support for environmentally benign industries is estimated to account for just 4% of all OECD industry subsidies.

How can it be fixed?

If it was easy, it would have happened already. After all, treasuries are always looking for ways to cut public spending. But many subsidies have an underlying purpose that is important politically even if it is negative environmentally. Governments frequently fall when they allow food prices to rise, for example, and we have seen in the UK the powerful reaction to fuel price increases.

The ideal solution would be a global agreement in Rio to phase out environmentally harmful subsidies. It's not impossible, but it's not going to be the most likely scenario in most companies' planning processes.

Short of a global agreement, individual governments could be persuaded to act. There is a powerful argument against most of these subsidies, not just for the environment but for the economy and society as a whole. Paradoxically, although many subsidies are supposedly aimed at helping the poor, removing them could actually hit the rich harder – and the money saved could be used to support poor people directly.

And cutting subsidies could even give a boost to economic activity that is so desperately needed. The OECD reckons that most countries would get real GDP benefits from removing subsidies to fossil-fuel consumption. It could produce additional government revenues up to 5% of GDP in developing economies in 2020.

Even better, the OECD says that phasing out fossil fuel consumption subsidies could reduce global greenhouse gas emissions in 2050 by 6%.

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This series looks at what effect government subsidies have on the environment, economy and across society as a whole, highlighting the problems caused by perverse subsidies and exploring how these can be solved